This Practical tip provides guidance on how to calculate the threshold for parent company financial information when the registrant has a consolidated shareholders' deficit.
SEC rules require a financial statement schedule containing condensed parent company-only financial information if the restricted net assets of consolidated subsidiaries exceed 25% of consolidated net assets as of the end of the most recently completed fiscal year. This Practical tip discusses this guidance and focuses on how to determine materiality in situations where a registrant has a consolidated shareholders' deficit.
SEC rules require a financial statement schedule (Schedule I) containing condensed parent company-only financial information if the restricted net assets of consolidated subsidiaries exceed 25% of consolidated net assets as of the end of the most recently completed fiscal year. In this context, consolidated net assets is considered to be the registrant’s shareholders’ equity (i.e., excluding non-controlling interests) and not total equity. The amount of restricted net assets of consolidated subsidiaries is the registrant’s proportionate share of the subsidiaries’ net assets that may not be transferred to the parent company in the form of loans, advances or cash dividends by the subsidiaries without a third party’s consent. Third parties can be lenders, regulatory agencies, governments, or similar parties with an ability to affect transferability.
The SEC staff has advised that when a registrant has a consolidated shareholders’ deficit, its consolidated net assets for purposes of the restricted net assets test should be zero. Therefore, any restrictions placed on the net assets of subsidiaries with positive equity would result in the 25% threshold being exceeded and a corresponding requirement to provide parent company-only financial information. Conversely, any restrictions placed on the net assets of subsidiaries with negative equity would not result in a requirement to provide parent company-only financial information. This is consistent with the guidance in SAB Topic 6-K, which states that a subsidiary with an excess of liabilities over assets has no restricted assets. A registrant should consult with the SEC staff if it has a specific fact pattern that may support an alternative approach that would provide more meaningful disclosure to investors. Even if parent company-only financial information is not required, additional footnote disclosure regarding restrictions may be required by S-X 4-08(e).
S-X 12-04 provides guidance regarding the preparation of Schedule I. The parent company-only financial information should consist of condensed balance sheets, statements of income and comprehensive income and statements of cash flow, all prepared with the same level of detail as required in primary interim financial statements filed with the SEC in accordance with Article 10 of Regulation S-X. The condensed parent company-only financial information must be presented for the same periods as the audited consolidated financial statements of the registrant. Footnotes to the schedule should include disclosure about material contingencies and significant provisions of long-term obligations and guarantees of the parent, including a five-year schedule of maturities. If this information is already separately disclosed in the notes to the consolidated financial statements, it need not be repeated. Cash dividends paid to the parent by consolidated subsidiaries, unconsolidated subsidiaries and 50% or less-owned persons must be disclosed separately for each of the last three fiscal years.
Note that bank holding companies are required by Rule 9-06 of Regulation S-X to include the condensed parent company-only information in the footnotes to the financial statements rather than as a separate Schedule I.
Company A, a calendar year-end SEC registrant, has two wholly-owned subsidiaries: Subsidiary X and Subsidiary Y. Due to restrictive bank debt covenants, both subsidiaries are precluded from transferring any funds to their parent, Company A, by loan, dividend, return of capital, or otherwise. On a consolidated basis, Company A has a shareholders’ deficit comprised of the following (assuming full pushdown of all consolidating entries):
|Net assets of Subsidiary X||$45|
|Net liabilities of Subsidiary Y||(55)|
|Net liabilities of Company A only||(30)|
|Consolidated shareholders’ deficit||($40)|
Since Company A has a consolidated shareholders’ deficit, its consolidated net assets for purposes of the restricted net assets test would be $0. Therefore, any restrictions placed on the net assets of Subsidiary X, which has positive equity, would result in the 25% threshold being met and a corresponding requirement to provide parent company-only financial information.
PwC clients that have questions about this Practical tip should contact their engagement partner. Engagement teams that have questions should contact Mila Petrova (1-973-236-5601) or Hadir El Fardy (1-973-236-5562) in the National Professional Services Group.